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S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

2019-10-02 01:10:00
John Kicklighter, Chief Currency Strategist
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Risk Aversion Talking Points:

  • Recession fears regained significant traction this past session particularly after the US ISM factory activity hit a 10-year low
  • Trade wars added to concern with the WTO sharply dropping trade growth forecasts while monetary policy earned more targeted influence
  • 'Risk' assets sank this past session and traders should keep close tabs on the clear technical milestones from the benchmark S&P 500

See how retail traders are positioning in the Dollar pairs, US indices, broader FX pairs, gold and oil intraday using the DailyFX-IG speculative positioning data on the sentiment page.

Recession Fears Attempt to Draw Back the Global Focus

There remains a competition for the broader market's attention to determine what will determine our bullish or bearish leaning as we well as the important foundation of momentum. Using Google search ranking to assess general interest, it is evident that the US impeachment inquiry continues to dominant the bulk of headlines. As discussed before, while this event has little direct impact on growth or the liquidity in the financial system, it can effectively create news 'overcast' whereby the masses never see key developments that could be more market moving if only the news was more widely spread. This creates situations in which most traders should be familiar where a sudden move in the market seems to have no apparent explanation because the critical development does not readily bubble up to the top headline of the average market participant's news aggregator.

This past session, a more traditional fundamental theme attempted to rip us back to a more market-moving reality. Once again, the word 'recession' was murmured across the system with no small amount of recognition to its lingering threat. There were a number of updates worthy of this issue and the fear it seems to be earning from investors. There was the direct Canadian GDP update for July which showed 0.0 percent growth and news that Japan moved forward with an increase in its consumption tax (from 8 to 10 percent) which will impact its economy later. The Global PMIs were largely second readings, but with a few exceptions, even improvements found sub-50 figures which shows contraction. The most critical update was the US ISM manufacturing survey for September which unexpectedly dropped to its lowest reading (47.8) in 10 years. Complacency may be strong but the abundance of evidence is becoming difficult to ignore.

S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

One consideration from the factory report from the US is that the world's largest economy is clearly a services-based economy. According for three quarters of output in the US, it may seem easy to play down Tuesday's update, but it links directly to another troubled theme: trade wars. Manufacturing carries stronger connection to the trouble posed to exports from troubled relations between the world's two largest economies. A more direct consideration on this front was offered by the World Trade Organization (WTO) which cut its trade growth forecast severely from 2.6 to 1.2 percent for 2019. Reasons for this move included global tensions, Brexit and extreme monetary policy - a surprising one.

A 'Risk' Swell Worth Watching

Key fundamental themes are important to keep track of as they will eventually exert pressure on the market, but practical price action is more critical for a market participant looking for opportunities in the here and now. This is what was so remarkable about this past session: we finally witnessed one of the more capable drivers drive the markets to action. Risk trends can be an ambiguous descriptor, but I consider it a market-wide response that draws correlation across assets with significant risk profiles but are otherwise distinct from each other. It was therefore, remarkable that Tuesday showed a significant slide - either in intensity and/or progress - from US equities, rest of world indices, emerging markets, carry trade and other familiar players. A jolt doesn't ensure momentum but concerted movement on an elemental basis like this has far more potency than most other influences.

S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

Critical moving forward is to assess if their conviction to the tentative de-risking. Breadth of the sentiment move is important as discussed, but there are specific benchmarks that can offer a stronger individual signal than most others could in a collaborative reading. In particular, the top US indices earn a particularly high degree of authority. Having hit record highs just a few months back, they are operating with a notable premium to most other key assets. While the global market is skeptical of the signal they are presenting, they still use the buoyancy as a buffer against more concerted deleveraging. Therefore, I will be watching the S&P 500 with particular interest as it stands at the cusp of August's range high of 2,940 and the subsequent 2019 trendline support is not much further down at 2,925. Slipping these milestones will sharply raise investors' fear.

Chart of S&P 500 with 50 and 100-Day Average (Daily)

S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

Chart Created on Tradingview Platform

Gauging Follow Through for Aussie Dollar, Watching for Pound and EURUSD Sparks

While our first focus should be on the systemically important fundamental themes, there are more targeted issues that should be monitored for acute volatility and potentially follow through. The most impressive event this past session - aside from the ISM earthquake - was the Reserve Bank of Australia (RBA) rate decision. Though the group was expected to cut its benchmark rate another 25 basis points (third cut in 5 months), the Aussie Dollar still tumbled when it lowered the benchmark to 0.75 percent. The Governor's rhetoric was not particularly intense when it comes to taking it down to zero or warming unorthodox policy however, so I am dubious that this is a jumpstart for a overwhelming trend. That is important for a pair like AUDUSD which is attempting to drive into the lowest level in years. Yet, for EURAUD which reversed back into a well-formed range, a 'path of least resistance' movement is more feasible.

Chart of EURAUD (Daily)

S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

Chart Created on Tradingview Platform

Ahead, I will be watching two events in particular. There are a few economic data points on tap, but they lack the critical weight to stir a reliable and heavy market response. From the Sterling, Brexit remains the focus as it has for months, if not years. That said, Prime Minister Johnson is due to deliver his detailed plan to European officials to try and break the impasse on negotiations either Wednesday or Thursday. This can generate a lot of volatility, but trend is awaiting definitive outcomes following multiple extensions and uncertainties. I will be watching EURGBP specifically given its short-term technical boundaries. In contrast, the update from the WTO's ruling on the level of tariffs the US can levy against the EU for what have been deemed uncompetitive subsidies is due imminently. In the meantime, the European Community has reportedly been discussing immediate retaliation to any US actions even if approved by the global body - a move certain to get a rise out of the Trump administration as well as the EURUSD.

Chart of EURGBP (Daily)

S&P 500 Positioned for a Risk Trend-Leading Turn as Recession Fears Return

Chart Created on Tradingview Platform

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